Imagine sitting down with someone to play Monopoly, and it’s the first time ever for both of you. What do you do first? After you each pick a token – the top hat, the Scottie dog – you read out the rules so you both know how the game works.
Pass Go, collect $200. Not $600. Not $800. Land on Free Parking, you get the money in the middle of the board. You don’t just take the money when you feel like it. The game works best when every player is aware of the rules and follows them.
Business is the same way.
When you start a business with other people, you all have to agree on “the rules of the game,” the way things will work in your business. Drafting corporate governance documents is the best way to do this. One of the most important documents is the buy-sell agreement.
The Buy-Sell Agreement Sets the Rules of Business in Advance
A buy-sell agreement is like a pre-nuptial agreement for the business. Instead of saying what will happen when you divorce, it says what will happen when a particular event arises, like a partner being convicted of fraud or becoming disabled.
With a solid buy-sell agreement in place, owners run the company knowing that whatever arises, there is a pre-determined course of action that will take place. It can prevent partners from panicking and having to figure out what to do on the fly or, in some cases, suing each other.
Every business with more than one owner should have a buy-sell agreement in place.
The 8 Parts of a Buy-Sell Agreement
When you prepare a buy-sell agreement for your business at Gem McDowell Law Group, you and your partners will be taken through eight parts. Together with Gem, you’ll create a document that is tailored to your business and meets your needs. That is to say, this is not a cookie cutter document. It’s created for your business alone.
Each one of the eight parts asks you to consider a potential situation and how you’d like to deal with it, should it occur. They are:
1. Borrow money against shares. When an owner or shareholder borrows money against their shares, it can have an impact on the business. Many companies only a partner to borrow against their shares if 75% or 100% of the partners agree to it.
2. Voluntary transfer. What if one of the owners wants to give some shares to his wife? Well, you agreed to be in business with him, not his wife. The buy-sell agreement can prevent that transfer from taking place. Partners can agree upon who can and cannot be given shares in the business through voluntary transfer.
3. Involuntary transfer. This could happen when a bank forecloses on a shareholder’s shares of stock, for example.
4. Discontented owner. Let’s say that in a company with 8 owners, 7 think that the 8th is untrustworthy and want her out. Your buy-sell agreement can make a provision where if a quorum wants that partner gone, she can be forcibly bought out.
5. Crimes of moral turpitude. This legal term refers to a variety of crimes contrary to community standards of justice, honesty or good morals. If an owner of the business is convicted of such a crime, it could be very bad for the company as a whole. For that reason, the remaining owners may decide that a partner guilty of such a crime can be forcibly bought out.
6. Buyout because of retirement. AKA, one of the partners is not working hard enough. The agreement can include a stipulation about how many hours each owner must work in order to be in good standing, and if they don’t work that many hours, what the consequences are. Each owner may have a different number of hours, if, for example, one partner contributes money rather than manpower.
7. Disability. What happens to the business if one of the owners becomes disabled and can no longer work?
8. Death. A buy-sell agreement can include the terms of the buyout of the deceased partner’s share, such as whether the buyout is immediate or part immediate, part later.
Creating a buy-sell agreement early on in your business is smart because you and your partners are more likely to think about each situation in a clear and fair manner. After problems arise, it’s more difficult to get everyone on board – it’s like trying to create the rules of Monopoly after someone has landed on Free Parking. It’ll be a lot tougher getting the other players to agree that landing on Free Parking means you get the dough from the middle of the board. At that point, you’ll wish you had agreed on the rules at the start.
“Do I Really Need a Buy-Sell Agreement?”
The only way it’s remotely close to being okay to not having a buy-sell agreement is if you’re the only person in your business. If you’re in business with someone else, you need to have this and other corporate governance documents. Even if they’re not required by law, it’s just smart business to have them.
Learn More About Buy-Sell Agreements
Whether you’re in the early stages of creating a new business or you’ve been in business for years, call the Charleston office of business attorney Gem McDowell at 843-284-1021 to discuss how he and his associatess can help you. They work with companies to create tailored buy-sell agreements, capital call agreements, non-disclosure agreements, covenants not to compete and more.
